[Economists have considerable value, but seldom with relevance to your investing, as I have highlighted many times before. They are either trying to predict market outcomes, or predict economic events which they believe will have very specific outcomes for investment markets. Their record for predicting either is shocking, and that is absolutely clear, and here Ryan McMaken looks at this in the context of Brexit. Where you might disagree with Ryan is his views on the EU edifice – that is relevant to you as potential investors in Europe and I will return to that angle next week. BD]
Brexit: Predictions of Economic Doom Show Why People Ignore "Experts"
By Ryan McMaken
The headline was unambiguous: "Brexit Is Done: The U.K. Has Left the European Union." As of January 31, the European Union (Withdrawal) Act of 2018 has become law and the United Kingdom has begun the withdrawal process from the European Union. The transition process will continue throughout 2020 as the UK and EU governments negotiate the nature of the future relationship between the UK and the EU.
Now that the British exit from the European Union is a legal reality, the economic situation in the UK has been surprisingly sedate.
This will be a surprise for those who believed the assurances of media pundits and economic experts that the UK's economy would become even more crippled as Brexit edged closer.
Yet economic turmoil has been sparse. Certainly, markets and companies have moved to adapt to the new coming reality of the UK as largely outside the EU's common market. But it is hardly clear that the country is poised on the edge of a Brexit-caused economic disaster. This is true even though Brexit has clearly been all but inevitable since December's general election.
Predictions of Doom
It wasn't supposed to happen this way.
Opponents of a British exit—and the economists they employed—insisted that not only would the eventual withdrawal be disastrous for the UK economy, but that even the market uncertainty associated with an eventual withdrawal would cripple the British economy.
For example, the UK Treasury released a report in May 2016 stating:
"A vote to leave would cause a profound economic shock creating instability and uncertainty which would be compounded by the complex and interdependent negotiations that would follow. The central conclusion of the analysis is that the effect of this profound shock would be to push the UK into recession and lead to a sharp rise in unemployment."
According to the report, this economic disaster didn't require a completed exit from the EU. The mere act of voting in favor of leaving, Brits were told, would trigger enormous economic problems.
Meanwhile, the Organisation for Economic Co-operation and Development (OECD) in an April 2016 report predicted that Brexit would cost Britain the equivalent of more then three thousand pounds per household and "would be a major negative shock to the UK economy, with economic fallout in the rest of the OECD."
More nuanced analyses debated the effects of "no-deal Brexit" as opposed to a more "soft" Brexit. But in the lead-up to the election—and in the years following—the message was clear: Brexit is going to make Britain significantly poorer.
Yet investors, entrepreneurs, and consumers, appear unconvinced that the barriers to international trade raised by Brexit will be sufficient to send the UK economy into a tailspin. Investors have not abandoned UK investment opportunities, and entrepreneurs are not anticipating a crushing tariff burden. Even if the EU insists on being petulant, the UK has other important trading partners. Accordingly, by January of this year, The Telegraph reported, "The strength of the British economy is defying predictions of post-Brexit doom," and Bloomberg reports that in spite of predictions of massive losses in the financial sector, "London has extended its lead in foreign exchange and interest rate derivatives trading since the referendum." The Telegraph has also noted that as a finalized Brexit edges closer, hiring has increased and economic growth—as measured by economists' usual methods, has increased.
"Transaction Costs" Include More Than Trade Barriers
The claim that Brexit would make everyone poorer was premised on an obsession with the idea that Brexit would drive up so-called "transaction costs" for British businesses in terms of tariffs and other barriers to the free movement of labor and goods. The assumption was that business with the Continent was streamlined and basically frictionless, while withdrawal from the EU would raise many new barriers.
This is a common argument among economists and politicians who favor greater streamlining of trade and migration through international agreements.
Certainly minimizing transactions costs in this way is always a good thing, all else being equal. It's good when trade increases, and when countries—and the individuals within them—are able to take advantage of the the division of labor. It's also good when consumers and entrepreneurs are left to choose for themselves what products they wish to buy and from where.
But the problem with economic integration of the EU sort is that it also tends to come with political integration.
Thus, economic integration comes with a host of strings attached in the form of bureaucratic management from above. That management has been extensive, and the regulatory burdens associated with it are significant.
Ralph Peters at the Hoover Institution refers to the EU as "a bureaucratic monster" that interferes absurdly with "the structures of everyday life."
Even worse, trying to reduce this bureaucratic burden is extremely difficult for any single member of the EU. Any significant change to Europe-wide bureaucratic edicts requires an enormous amount of effort in marshaling support from other member states and pushing through reforms. The weight imposed on smaller businesses and entrepreneurs is especially damaging. As Peter Chapman noted at Politico, "the EU's general antipathy towards entrepreneurs remains a huge barrier" to economic improvement. Although the nominal benefits of membership in the EU may be easy to see in terms of reduced trade barriers, the net benefits are far less clear to those who are aware of the true cost of the EU bureaucracy. Not only does EU membership come with high transaction costs in terms of added regulations, but the nature of the EU's unelected and foreign institutions likely made the bureaucracy less responsive, less flexible, and more permanent. That in itself is an added burden above and beyond the regulations themselves.
Some anti-Brexit commentators have noted the obvious: namely that Brexit does not automatically bring relief from regulatory burdens. This is certainly true, but all this means is that British entrepreneurs and consumers are presently banking on the idea that at least some regulatory relief will come, and that the cost of international trade will not rise to crippling levels. But it also means that if UK policymakers want to change or reduce these bureaucratic burdens, it's not necessary to go to Brussels to beg for relief. In other words, the private sector appears to be taking a long-term view while the anti-Brexit pundits are obsessing over the immediate future.
So, those who are anticipating economic advantage from Brexit are not without reason to be optimistic. As was noted by numerous pro-Brexit observers, the UK's trade relationships are global, and not lopsidedly reliant on favorable terms with the EU bloc. In many ways, membership in the EU has restricted UK trade with the outside world. China and eastern Asia are quickly becoming more important to a global trade strategy than the EU. This is true even for core EU countries such as Germany. Moreover, should political coalitions of entrepreneurs, taxpayers, and consumers seek regulatory relief, they will have greater ability to seek change in London than in Brussels.
Economists Can't Predict the Future
So what happens next?
Admittedly, the fact that a severe economic slide in the wake of Brexit hasn't happened so far doesn't mean that it can't happen. But then again, even if the UK's economy goes downhill, how much of that is attributable to Brexit? Boom-bust cycles are still a reality, and they can be triggered by many factors beyond leaving a trade bloc.
But there's one thing we do know: the same "experts" who predicted immediate economic chaos following a "leave" vote are unlikely to accurately accurately predict any coming effects of Brexit.
Indeed, the complexity of the coming changes in the legal, political, and international landscape is such that any responsible economist should admit that he or she doesn't know what's going to happen.
In an article titled "Mission Impossible: Calculating the Economic Costs of Brexit," Roch Dunin-Wasowicz writes at the London School of Economics:
"As a matter of fact, estimating the costs surrounding a future stochastic event (or structural break) is as easy as predicting next year’s weather. Financial mathematicians know this matter better than anyone. Considering that there has not been a previous exit from the European Union (nor in any highly integrated economic area), estimating the full costs was never going to be possible. The attempts that were made prior to the referendum involved many and heavy assumptions, including strong premises regarding the reaction of the other economies and trading partners within the EU, and beyond. Moreover, the issue involves a multitude of aspects beyond those strict[ly] trade-related, such as productivity and competitive edge, labour mobility, education, firm complementarity across borders, macroeconomic interdependence, (macroeconomic) policy alignments, financial interdependence, financial market flexibility, financial innovation, liquidity, systemic risks and financial stability, or prudential policy effectiveness."
This reality, however, won't stop anti-Brexit activists from blaming every negative development in the UK in coming years on Brexit—or on the people who supported it.
[You can read the original article here, including details on the author plus an entertaining discussion from readers of the article]